On October 30, 2015, in connection with the adoption of the final rules to implement securities based crowdfunding as provided under the JOBS Act, the SEC also proposed amendments to Rule 147 and Rule 504 under the Securities Act of 1933 (Securities Act). Rule 147 sets forth the safe harbor exemption from the registration requirements of the Securities Act for intrastate securities offerings. The proposed amendments to Rule 147 are designed to modernize the rule and facilitate capital formation and, in part, are to assist issuers seeking to raise capital under state intrastate crowdfunding rules. The SEC also proposed amendments to Rule 504 under Regulation D, the private placement exemption safe harbor, to increase the amount of securities that may be sold in any 12-month period to $5 million from its current $1 million and to add certain “bad actor” disqualification provisions.
Proposed Amendments to Rule 147
Rule 147 is the safe harbor for intrastate offerings exempt from the registration requirements of the Securities Act pursuant to Section 3(a)(11) of the Securities Act. Section 3(a)(11) and current Rule 147 exempt a security that is both offered and sold solely to residents within the same state or territory in which the issuer is incorporated and doing business. The proposed amendments to Rule 147 are designed to update the rule to reflect current offering practices and technology, by (1) eliminating the restriction in the rule that limits offers (but not sales) by the issuer to residents of the same state or territory in which the issuer is resident and doing business, and (2) eliminating the requirement that issuers be organized or incorporated in that state.
The SEC notes in the proposing release that many states have adopted or are considering intrastate crowdfunding rules or statutes, which can be a valuable avenue for small companies to raise capital. The SEC indicates that these laws and regulations generally require issuers to comply with various state-specific requirements as well as Section 3(a)(11) and Rule 147 to qualify for the state crowdfunding exemption. However, the proposing release notes that it may be difficult for issuers to rely on these new state crowdfunding opportunities because Rule 147 currently limits offers (as well as sales) to in-state residents, which raises the question of whether issuers may use the Internet to conduct these types of offerings. In addition, under current Rule 147, issuers must be organized or incorporated within that state, which may exclude issuers whose principal business operations are within the state, but that are organized elsewhere (such as Delaware) for valid business reasons.
The proposed amendments to Rule 147 would permit issuers to engage in general solicitation and advertising in connection with intrastate offerings of securities, including through the Internet, as long as the issuer has a reasonable belief that all of the sales are made to residents of the state of the issuer’s principal place of business and the offering is registered in such state, or conducted pursuant to an applicable state law exemption in such state that limits the amount of securities an issuer may sell pursuant to such exemption to no more than $5 million in a 12-month period and imposes a limit on the amount an investor can purchase in such an offering. The proposed amendments would define an issuer’s principal place of business as the state in which the issuer’s management primarily “direct, control and coordinate the activities of the issuer” so that each issuer would have a “principal place of business” within only one state or territory. Issuers also would be required to satisfy at least one threshold test designed to ensure that their business is principally conducted within that state. Offers and sales made under Rule 147 as proposed to be amended would continue to need to comply with state securities laws.
In terms of resale, the SEC also proposed to amend Rule 147 to provide that for a period of nine months from the date of sale of a security, purchasers may only resell securities purchased in an offering exempt under Rule 147 to other persons resident within the state or territory in which the original offering was made. This limitation is somewhat relaxed from the current Rule 147 requirement that resales must be to residents of the same state or territory for a period of nine months from the last sale by the issuer of such security (which, if the offering continues for a period of time, could be significantly longer that nine months from the sale of the particular security).
Proposed Amendments to Rule 504
Regulation D contains safe-harbor private placement exemptions from the securities registration requirements under the Securities Act. Rules 504, 505 and 506 contain the exemptive offering provisions of Regulation D. Rule 504 provides an exemption from the registration requirements of the Securities Act for offerings and sales of securities that meet the requirements of the rule in an amount up to $1 million in any 12-month period. Offerings under Rule 504 are typically not exempt from state securities laws and generally must either be registered in each state in which the offering is made or have an exemption from the applicable state registration requirements. In addition, offerings made under Rule 505 or Rule 506 are subject to bad actor disqualification provisions, but offerings under Rule 504 are not currently subject to such provisions.
The SEC is proposing amendments to Rule 504 that would increase the offering limit under that rule to $5 million in any 12-month period and to add “bad actor” disqualification provisions for Rule 504 offerings. (The SEC last raised the Rule 504 dollar threshold from $500,000 to its current $1 million in 1998.) The intent of the amendments is to aid small businesses in raising capital and to increase investor protection. The proposing release also mentions that enactment of these amendments could assist state securities regulators in developing coordinated review programs relying on Rule 504 at the federal level. The proposed bad actor disqualification provisions would be added to Rule 504 by reference to such provisions in Rule 506, providing a uniform set of bad actor triggering events across the various exemptions from registration available under Regulation D.
The comment period for the new proposed amendments to Rule 147 and Rule 504 will be open for 60 days after the release is published in the Federal Register. In addition to requesting comments on various aspects of the amendments as proposed, the SEC has also requested comment on the continued utility of Rule 505 and whether it should be repealed if the offering ceiling under Rule 504 is raised to $5 million. Rule 505 currently provides an exemption for private placement offerings in an amount up to $5 million during any 12-month period, but has different eligibility requirements from those in current Rule 504.
